Write an executive summary and answer these questions.Do not include the actual questions in the writing. What factors should Mr.Weir consider in dealing whether to adopt level productionWhat are the total savings from adopting level productionPrepare pro forma income statements, balance sheets to estimate the amount of funds required and the timing of the needs under level production. Does Polar need more than $4 million to finance level production? Why or why not?Compare the liability patterns feasible under the alternative production plans. What implications do their differences have for the risk assumed by the various parties?What would be the impact of the unsold inventory on cash lows and projects cash savings?
For all these questions analysis the numbers and write on it as well.
For the exclusive use of S. Brikho, 2020.
9-913-513
AUGUST 20, 2012
W. CARL KESTER
WEI WANG
Polar Sports, Inc.
In early January 2012, Richard Weir, president of Polar Sports, Inc., sat down with Thomas
Johnson, vice president of operations, to discuss Johnson’s proposal that Polar institute level monthly
production for 2012. Since joining the company less than a year earlier, Johnson had become
concerned about the many problems arising from its highly seasonal production scheduling, which
reflected the seasonality of sales of skiwear and accessories. Weir understood the cost savings and
improved production efficiency that could result from level production, but he was uncertain what
the impact on other aspects of the business would be.
Polar Sports, a fashion skiwear manufacturer based in Littleton, Colorado, carried production
lines in high-quality ski jackets, snow pants, sweaters, thermal soft shells and underwear, and
accessories such as gloves, mitts, socks, and knit caps. The company produced most of these products
in a wide range of styles, sizes, and colors. Polar had a unique design of skiwear that employed
special synthetic materials for better insulation and durability. The design and color of products
changed annually. Dollar sales of a given product line could vary as much as 30% to 40% from year to
year.
The ski apparel design and manufacturing business was highly competitive. The industry
comprised a few large players and a number of smaller firms. Besides several major competitors in
the market such as North Face, Burton, Karbon, Spyder Active Sports, and Sport Obermeyer, highend designers like Prada and Giorgio Armani had recently entered the technical skiwear market.
Occasionally, a company was able to gain share in that competitive market by developing and
marketing new fabrics and using innovative patterns in a given year; typically, however, competitors
were able to market similar products the following year. Unlike Polar, several large producers had
shifted their major production to Asia and Latin America to save on labor costs, making their
products more competitive in price. Fierce competition in both design and pricing resulted in short
product lives and a relatively high rate of company failures.
________________________________________________________________________________________________________________
Harvard Business School Professor W. Carl Kester and Professor Wei Wang, Queens University, Kingston, Ontario, prepared this case solely as a
basis for class discussion and not as an endorsement, a source of primary data, or an illustration of effective or ineffective management. Although
based on real events and despite occasional references to actual companies, this case is fictitious and any resemblance to actual persons or entities
is coincidental.
Copyright © 2012 President and Fellows of Harvard College. To order copies or request permission to reproduce materials, call 1-800-545-7685,
write Harvard Business Publishing, Boston, MA 02163, or go to http://www.hbsp.harvard.edu. This publication may not be digitized,
photocopied, or otherwise reproduced, posted, or transmitted, without the permission of Harvard Business School.
This document is authorized for use only by Sandra Brikho in FIN 423 Spring 2020 taught by Yaoyi Xi, San Diego State University from Jan 2020 to May 2020.
For the exclusive use of S. Brikho, 2020.
913-513 | Polar Sports, Inc.
Company Background
Polar Sports, Inc., was established in 1992 by Richard Weir, a retired professional snowboarder.
His desire was to produce high-quality skiwear and accessories for people of all ages and abilities.
Through Weir’s expansive network of ski instructors and resorts, Polar was able to sell a few
hundred units of high-quality products by the third year of operation.
Polar experienced fast growth since the late 1990s, after sponsoring a number of snowboarding
events and endorsing a few talented athletes who later competed in several international
competitions. Polar became a popular brand among both professional and amateur skiers and
snowboarders. The company’s sales growth was affected only slightly by the 2008–2009 economic
recession. In 2011, Weir hired Thomas Johnson, a production manager at a sports equipment factory,
as vice president of operations.
The skiwear production process, though not complex, was nevertheless labor intensive. It
required designers to constantly come up with new styles to stay ahead of competing products. The
designers worked closely with raw-materials suppliers in developing new fabrics. Focusing on both
the technical and the fashion aspects of their products, Polar’s designers helped create a high-tech
temperature-control fabric for the base and middle layers, providing both breathability and
waterproofing. The production technology required skilled labor, and the process was primarily
manual, which ensured that stitching was accurate and jackets and pants were properly insulated.
Company Financials
The popularity of skiing and snowboarding had grown tremendously over the past two decades.
According to a National Sporting Goods Association survey, at the end of 2010 more than 15 million
Americans over seven years of age participated in skiing or snowboarding. The skiwear
manufacturing industry experienced fast growth in the 2000s with the rising popularity of winter
extreme sports such as snow kiting and heli-boarding. Polar achieved progressive market share
through its unique design and expansive sales network. Its sales grew from $4.65 million in 2001 to
$16.36 million in 2011. With a number of promising new designs under production, sales were
projected at $18.0 million for 2012. However, the ultimate success of the new designs depended
greatly on how well the market would respond. In recent years, more-intense competition had made
accurate predictions increasingly difficult.
Polar’s net income reached $897,000 in 2011 and was projected to be $1,147,000 in 2012 under
seasonal production. Tables A and B show the latest financial statements. The cost of goods sold had
averaged 66% of sales in the past and was expected to remain at approximately that level in 2012
under seasonal production. Operating expenses, projected to be 24% of sales, would be incurred
evenly throughout each month of 2012 under either seasonal or level production. Polar was facing a
corporate tax rate of 34%.
2
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Polar Sports, Inc. | 913-513
Table A
Consolidated Income Statement, 2009–2011 (in thousands of dollars)
2009
Net sales
COGS
Gross profit
Operating expense
Interest expense
Interest income
Pretax profit
Income tax
Net income
Table B
14,079
9,011
5,068
3,520
105
17
1,461
497
964
2010
2011
15,065
10,244
4,821
3,615
125
19
1,099
374
725
16,360
10,798
5,562
4,090
128
15
1,359
462
897
Balance Sheet at December 31, 2011 (in thousands of dollars)
Cash
Accounts receivable
Inventory
Current assets
PP&E
Total assets
500
5,245
1,227
6,972
2,988
9,960
Accounts payable
Notes payable, bank
Accrued taxes
Long-term debt, current portion
Current liabilities
Long-term debt
Total liabilities
Shareholders’ equity
Total liabilities and shareholders’ equity
966
826
139
100
2,031
1,000
3,031
6,929
9,960
As noted, sales of skiwear and accessories were highly seasonal, with more than 80% of annual
dollar volume generated from September through January. Table C shows both actual monthly sales
for 2011 and projected monthly sales for 2012. Polar pursued three sales channels: wholesale, catalog,
and online direct sales. Polar’s wholesale channel, which accounted for 70% of sales, included about
1,000 dealers, sporting goods stores, specialty ski stores, and department stores. During the SIA Snow
Show in Colorado, the biggest annual exhibition for skiwear manufacturers held in late January,
Polar presented its latest product designs, which would be released in the fall. It often received orders
representing around 15% of its annual sales right after the show; these were shipped in September.
Customers usually took 60 days to pay for wholesale purchases, and the collection experience had
been very satisfactory. Transactions with catalog and online direct sales were usually settled on the
date of purchase.
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913-513 | Polar Sports, Inc.
Table C
January
February
March
April
May
June
July
August
September
October
November
December
Total
Monthly Sales (in thousands of dollars)
Sales
2011
Projected Sales
2012
671
393
360
311
180
196
474
769
2,896
2,618
4,564
2,928
702
486
414
378
162
180
378
540
2,970
2,520
5,724
3,546
16,360
18,000
Polar’s practice was to fulfill customers’ orders promptly. A small fraction of capacity at Polar’s
Littleton plant was required to meet orders from February through July each year. From August
through January, the company greatly expanded its workforce. New employees were hired and
trained, and existing employees were asked to work overtime. All equipment was used more than 15
hours per day, which called for frequent maintenance. Whenever possible, shipments were made on
the same day an order was placed. Production was scheduled to match sales for each month.
Under seasonal production, in 2012 Polar would maintain the same level of inventory that it held
on December 31, 2011. The accounts payable balance at the end of a month was assumed to be 50% of
the cost of goods sold that month. This figure was related to material purchases that accounted for
50% of the cost of goods sold for 2012. Total material purchases, based on 30-day payment terms,
were forecasted to be $5,940,000 in 2012.
The 2011 year-end cash balance of $500,000 was regarded as the minimum necessary for the
operation of the business. Polar had borrowed from its local bank through a line of credit. At the end
of 2011, a loan of $826,000 was outstanding. The local bank was willing to increase the limit on the
company’s credit line up to $4 million in 2012; any advances in excess of that amount would be
subject to further negotiation. According to the loan covenant, the outstanding balance on the line of
credit was not to exceed two-thirds of accounts receivable and inventory combined. The average
interest rate Polar paid on its line of credit was 6% in 2011. Any withdrawal in excess of $2 million
would be subject to 11% interest. Polar had an outstanding long-term bond for $1 million on its
balance sheet as of December 31, 2011. The long-term bond carried a coupon rate of 8% and was
being amortized by payments of $50,000 in June and December of each year.
Johnson believed the company would be able to hold capital expenditures equal to depreciation at
$300,000, evenly distributed throughout the year. As a result, the company’s net amount of plant,
property, and equipment would be kept at the same level for 2012 under either seasonal or level
production.
Proposal to Adopt Level Production in 2012
Johnson was concerned with many problems arising from the method of seasonal production.
Machinery that stood idle for half of each year was then subjected to intensive use, leading to
4
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Polar Sports, Inc. | 913-513
excessive maintenance costs. Mass manufacturing of different styles and sizes resulted in frequent
setup changes on the machinery. In addition, hiring and training new contract-based employees
proved to be costly. Wage premiums due to overtime dramatically increased operating costs. Many
of these problems could be resolved if the company adopted level production, Johnson believed. He
mentioned to Weir that vendors and retailers had expressed strong interest in Polar’s new designs,
which would probably lead to a successful sales year in 2012. Those facts suggested that 2012 would
be a great year to experiment with level production. Purchase terms would not be affected by the
change in production scheduling. Johnson believed that level production would save the company
$480,000 by eliminating overtime premiums and reducing maintenance costs. The company would
realize another $600,000 through reduced hiring and training costs. For simplicity’s sake, the cost of
goods sold was assumed to be 60% and would not change monthly under level production.
However, some of the savings would be offset by increased storage and handling costs of $300,000 in
2012.
Weir understood that the risk of product obsolescence was substantial, and predicting which
products would sell the best often proved to be difficult. The company could be burdened with
excess merchandise for those styles and colors that retailers had not purchased with level production.
Styles that drew a poor market response would be deeply discounted at the end of the selling season.
Weir also speculated about the effect of level production on the company’s financing needs in
2012. He anticipated that profits, inventories, accounts receivable and accounts payable would
fluctuate as a result of a move to level production, but he could not be sure what the overall impact
on funds inflows and outflows would be. It was crucial that he understand this to avoid possible
violations of Polar’s loan covenants.
As Weir sat in his office and contemplated making the switch to level production, he considered
the trade-off between the potential cost savings and the financial risks that the company might face,
as well as the implications of the switch for short-term financing needs.
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139
(45)
0
94
232
0
94
100
425
1,000
1,425
6,842
8,268
1,511
2,541
1,227
5,280
2,988
8,268
Jan
94
(68)
0
26
160
0
26
100
286
1,000
1,286
6,710
7,997
2,950
832
1,227
5,009
2,988
7,997
Feb
26
(75)
(139)
(188)
137
0
(188)
100
49
1,000
1,049
6,564
7,613
2,768
630
1,227
4,625
2,988
7,613
Mar
(188)
(80)
(120)
(388)
125
0
(388)
100
(163)
1,000
837
6,409
7,247
2,477
554
1,227
4,259
2,988
7,247
Apr
(388)
(105)
0
(492)
53
0
(492)
100
(339)
1,000
661
6,206
6,867
2,274
378
1,227
3,879
2,988
6,867
May
(492)
(103)
(120)
(715)
59
0
(715)
100
(556)
950
394
6,007
6,401
1,946
239
1,227
3,413
2,988
6,401
Jun
(715)
(80)
0
(795)
125
0
(795)
100
(571)
950
379
5,851
6,231
1,625
391
1,227
3,243
2,988
6,231
Jul
(795)
(61)
0
(857)
178
0
(857)
100
(578)
950
372
5,732
6,104
1,246
643
1,227
3,116
2,988
6,104
Aug
(857)
219
(120)
(757)
980
0
(757)
100
323
950
1,273
6,158
7,430
758
2,457
1,227
4,442
2,988
7,430
Sep
(757)
167
0
(590)
832
785
(590)
100
1,126
950
2,076
6,482
8,558
500
3,843
1,227
5,570
2,988
8,558
Oct
(590)
536
0
(55)
1,889
80
(55)
100
2,014
950
2,964
7,522
10,486
500
5,771
1,227
7,498
2,988
10,486
Nov
(55)
285
(120)
111
1,170
847
111
100
2,228
900
3,128
8,076
11,204
500
6,489
1,227
8,216
2,988
11,204
Dec
-6-
g
liability for 2012, the company uses a tax liability of $480,000. This implies a payment of $120,000 in April, June, September, and December.
To be repaid at the at rate of $50,000 each June and December.
f Taxes payable on 2011 income are due March 15, 2012. On April 15, June 15, September 15, and December 15, 2012, payments of 25% of each of the estimated tax for 2012 are due. In estimating its tax
inventories are level, purchases will follow a seasonal production and sales pattern.
e Assumed equal to 50% of the current month’s COGS for seasonal production; related to material purchases that accounts for 50% of COGS for 2012. This represents a 30-day payment period. Given that
d Assumed equipment purchases equal to depreciation.
c Assumed inventories maintained at December 31, 2011, level for all of 2012.
b Assumed 60-day collection period for wholesale sales and instant collection for retail sales.
a Assumed maintenance of minimum $500,000 balance.
139
966
826
139
100
2,031
1,000
3,031
6,929
9,960
Accounts payablee
Notes payable, bank
Accrued taxesf
Long-term debt, current portion
Current liabilities
Long-term debtg
Total liabilities
Shareholders’ equity
Total liabilities and equity
Accrued Taxes
Beg. accrued taxes
Accrual of monthly taxes
Tax payments
End. accrued taxes
500
5,245
1,227
6,972
2,988
9,960
Actual
Dec 31,
2011
2012 Pro Forma Balance Sheets and Accrued Taxes Under Seasonal Production (in thousands of dollars)
Accounts receivableb
Inventoryc
Current assets
Net PP&Ed
Total assets
Casha
Exhibit 1
913-513
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360
7
3
(200)
(68)
(132)
486
321
165
Feb
360
7
5
(222)
(75)
(146)
414
273
141
Mar
360
7
5
(234)
(80)
(155)
378
249
129
Apr
360
7
4
(308)
(105)
(203)
162
107
55
May
360
7
4
(302)
(103)
(200)
180
119
61
Jun
360
7
3
(235)
(80)
(155)
378
249
129
Jul
360
7
3
(181)
(61)
(119)
540
356
184
Aug
360
7
2
645
219
426
2,970
1,960
1,010
Sep
360
7
1
491
167
324
2,520
1,663
857
Oct
360
11
1
1,576
536
1,040
5,724
3,778
1,946
Nov
0
0
0
0
1,439
826
0
0
(826)
1,011
Financing Activities
Less: bank note repayment
Less: debt repayment
Add: bank note issuance
Cash flow from financing
Total Cash Flow
(25)
1,439
2,450
(25)
1,837
1,837
Investing Activities
Less: capital expenditures
Cash flow from operating and investing
Cash available before financing activities
(132)
25
(1,710)
0
(71)
(68)
1,464
Feb
(87)
25
(2,704)
0
(735)
(45)
1,862
Jan
(182)
0
0
0
0
(25)
(182)
2,268
(146)
25
(202)
0
(24)
(214)
(157)
Mar
(290)
0
0
0
0
(25)
(290)
1,977
(155)
25
(76)
0
(12)
(200)
(265)
Apr
(203)
0
0
0
0
(25)
(203)
1,774
(203)
25
(176)
0
(71)
(105)
(178)
May
(328)
0
50
0
(50)
(25)
(278)
1,496
(200)
25
(139)
0
6
(223)
(253)
Jun
(321)
0
0
0
0
(25)
(321)
1,125
(155)
25
151
0
65
(80)
(296)
Jul
2012 Pro Forma Cash Flow Statement Under Seasonal Production (in thousands of dollars)
Operating Activities
Net income
Depreciation
Less: increase (decrease) in A/R
Less: increase (decrease) in inventory
Add: increase (decrease) in A/P
Add: increase (decrease) in accrued taxes
Cash flow from operations
Exhibit 3
(379)
0
0
0
0
(25)
(379)
746
(119)
25
252
0
53
(61)
(354)
Aug
(488)
0
0
0
0
(25)
(488)
258
426
25
1,814
0
802
99
(463)
Sep
(258)
0
0
785
785
(25)
(1,043)
(785)
324
25
1,386
0
(149)
167
(1,018)
Oct
d Negative figures are tax credits from operating losses, and reduced accrued taxes shown on balance sheets. The federal tax rate on all earnings was 34%.
c 2% annualized rate of return on average monthly cash balances.
b Assumed to be the same for each month throughout the year.
a Assumed cost of goods sold equal to 66% of sales.
360
11
1
(132)
(45)
(87)
702
463
239
Jan
2012 Pro Forma Income Statement Under Seasonal Production (in thousands of dollars)
Operating expensesb
Interest expense
Interest incomec
Profit (loss) before tax
Income taxesd
Net income
Net sales
COGSa
Gross profit
Exhibit 2
0
706
0
0
(706)
(25)
706
706
1,040
25
1,928
0
1,057
536
731
Nov
360
7
1
839
285
554
3,546
2,340
1,206
Dec
0
0
50
768
718
(25)
(718)
(718)
554
25
718
0
(719)
165
(693)
Dec
4,320
94
32
1,737
591
1,147
18,000
11,880
6,120
Total
913-513
-7-
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